January 11, 2019
In today's featured FINRA regulatory settlement, a stockbroker is fined and suspended for introducing two acquaintances to a profitable real estate deal in Nepal. Ah yes, beautiful downtown Kathmandu with its stunning ocean views and red-hot real estate market! Psst . . . wanna get in on the new Trump Kathmandu Palace condominium development? How about a Nepalese fixer-upper you can flip? In any event, FINRA is all roiled up about the apparent violation of its Private Securities Transaction Rule and, you know what, given the facts at hand, the regulator may have a point. That being said, there's still something unsettling when a private regulator controlled by employer member firms decides what the industry's men and women can and cannot do without giving those same folks any vote on its rulemaking process.
Case In Point
For the purpose of proposing a settlement of rule violations alleged by the Financial Industry Regulatory Authority ("FINRA"), without admitting or denying the findings, prior to a regulatory hearing, and without an adjudication of any issue, Suresh Basnet submitted a Letter of Acceptance, Waiver and Consent ("AWC"), which FINRA accepted.In the Matter of Suresh Basnet, Respondent (AWC 2017053590001, January 3, 2019).
The AWC asserts that Basnet entered the industry in 2004, was first registered in 2008, and by 2009 was registered with FINRA member firm Voya Financial Advisors, Inc.
Investing in Nepal Real Estate
The AWC alleges that in late 2016, Basnet presented an oral investment idea to two Voya customers, who were also longtime acquaintances of his.The investment proposal involved purchases of plots of land in Nepal with the real estate to be managed by Basnet's relatives in Nepal. Basnet verbally
discussed with the two acquaintances such terms and conditions as the
investment period and an expected rate of return, but the terms were not reduced
to writing. In December 2016, Basnet's two customers invested a total of $55,000 in the venture funded from their respective Voya accounts. The AWC concedes that in 2018, after two plots of Nepalese land were sold, the two investors' proceeds fully repaid with an unstated amount of profit.
The Cost of Participation
The AWC alleges that Basnet violated FINRA Rule 3280: Private Securities Transactions of an Associated Person, which requires FINRA associated persons to provide prior written notice to their employer member firm in which a proposed transaction is detailed and the person's proposed role set forth. The AWC asserts that prior to his participation in the Nepalese real estate transactions, Basnet did not provide Voya with the requisite written notice. The AWC concedes that Basnet "did not receive compensation for his participation in the transactions;"
In setting out the elements of Basnet's alleged "participation" in the private securities transactions ("PSTs"), the AWC deemed that he had engaged in the following conduct that had required prior notice:
(a) soliciting the investments; (b) depositing the money invested into accounts he controlled and subsequently transferring them therefrom; and (c) helping facilitate the land purchases in Nepal. . .
Discharged by Voya
Online FINRA BrokerCheck records as of January 11, 2019, disclose that Voya "discharged" Basnet on March 3, 2017, based upon allegations that:
Representative failed to follow Firm policy regarding private securities transactions.
FINRA alleged that Basnet had improperly participated in two private securities transactions without providing prior written notice to Voya in violation of FINRA Rules 3280 and 2010. In accordance with the terms of the AWC, FINRA imposed upon Basneft a $5,000 fine and a 45-day suspension with any FINRA member firm in any capacity.
Bill Singer's Comment
I will give the Devil his due and admit that FINRA's settlement was justified pursuant to the terms of Rule 3280. I'm not quite sure why a whopping 45-day suspension was necessary given the facts involved, but a settlement is a settlement, and if Basnet was happy with the terms of his deal, then it's not my place to second-guess him. There may well be additional facts and circumstances not set out in the AWC, which, if I knew what I don't know, could persuade me that Basnet negotiated a great deal.
All of the above preamble aside, I still don't like many of FINRA's PST cases. Why? Because in and of itself there is nothing necessarily wrong about an employee of any business in any industry engaging in private securities transactions. Not saying it's a bad rule. Not saying it's a good rule. Not saying that many -- even most -- PSTs should involve prior written notice to an employer. Frankly, given the amount of fraud involved with a lot of PSTs, it's not a bad idea to give an employer a head's up.
Then what the hell are you saying, Bill -- you rightfully ask.
What I'm saying is that the law is divided between what we lawyers call Malum In Se ("evil in itself") and Malum Prohibitum ("evil prohibited") -- the difference between those things that we supposedly "know" are wrong and those things that we decide to make wrong. It's the difference between a law against intentionally driving your car into someone and killing them versus not allowing you to park your car on Main Street on Thursdays from 10 a.m. to 11 a.m. to allow for street cleaning. I'm not sure that these days everyone is necessarily on the same page with that concept of what's "evil," but let's sort of agree that there are some acts and conduct that we all should agree are wrong -- in fact, some were carved in stone on a mountain millennia ago. That leaves a whole batch of stuff we may not all feel are instinctively or intuitively wrong but in order for society to function, we sort of hold a vote, pass laws to prohibit this and that, and then codify all the rules. Although our codes tend to incorporate most, if not all, of the malum in se, a lot things that get written into our codes of law and rules of conduct are malum prohibitum. You visit another town and you can't park on their Main Street on Tuesdays. Go elsewhere and you can't park from 8 a.m. to 9 a.m. Go to yet another town and there is no Main Street, there is no such weekly parking ban, but you can't turn right at a red light.
Within the last 100 years, the United States decided that the consumption of alcohol was evil, we voted to amend the Constitution, and we had Prohibition. Then we voted to undo that law and we had Repeal. Today we are seeing the similar evolution of public views on legalizing marijuana.In a democracy, we often have differing and evolving ideas about what's right and wrong and what should and should not be illegal -- and we elect representatives to our local, state, and federal governments in order to oppose or support whatever winds are blowing. In the United States, at least, we have a bedrock principle of government that "taxation without representation is tyranny." Even if you don't get to directly vote on each and every law drafted by your local council or statehouse or Congress, you do directly vote for those who cast the deciding votes.
How's this all tie in with my tepid response to FINRA Rule 3280? Simple: as is made clear in today's AWC, FINRA has the power to suspend and charge fines against associated persons; however, those industry employees impacted by such sanctions are wholly disenfranchised at FINRA. The only voters on anything at FINRA are its member firms, which happen to be employer/broker-dealers. In my eyes, FINRA is nothing more than an agent of those employers. The way I see it, if you want to pass malum prohibitum rules, then you have to enfranchise those impacted by such restrictions and their attendant sanctions.
There are strong arguments in favor of regulating PSTs within the FINRA member community. Consumer and employer advocates on Wall Street often clamor, and with merit, for limits on a stockbroker's right to engage in PSTs. If the stockbroker is bereft of any vote on that proposal, however, then the subsequent rulemaking is unfair. It's okay to hold a vote and the stockbrokers lose, but that's quite different from holding a vote and not allowing those same constituents to fill out a ballot.
Imagine if we went back to square one with FINRA Rule 3280, and the regulator's initial rule proposal calls for associated persons to be fined and suspended if they orally discussed investing in real estate in a foreign country with two long-time acquaintances (who were also clients of the stockbroker's employing firm). Further, the industry regulator proposes that a fine and/or suspension would come into play even if the stockbroker made a profit for his acquaintances and he received no compensation. In response to such a proposal, many stockbrokers might say that the gist of the proposal is certainly fair when it comes to most customers but why not carve out an exception for my family and certain clients who are also longstanding friends. What if we produce a notarized consent form from such customers with a detailed explanation as to how the PST is not being offered or recommended by the broker-dealer and could result in the loss of the entire investment? Similarly, a stockbroker may argue that if she refuses to accept any compensation on a PST, that she should not be required to provide prior notice to her firm. Before you misunderstand, I am not espousing such positions but merely suggesting that associated persons may wish to recommend that a PST rule include further exceptions or carve-outs. As FINRA is presently structured, there is no such give-ad-take or back-and-forth in which associated persons are voting constituents at FINRA -- at best, their thoughts can be submitted along with any other public comment. All of which explains my decades-long call to de-certify FINRA as self-regulatory-organization held captive by its member firms (and particularly its large firms) and to reimagine FINRA as a broad-based private sector regulator comprising key market participants such as investors, associate person, issuers, customers, and member firms.